If you are a typical consumer, and you watch television, you have most likely heard of reverse mortgages. At certain times of the day, the airwaves seem to be full of reverse-mortgage advertising, so the topic has naturally generated a lot of interest – and confusion – among its intended audiences.
Simply stated, a reverse mortgage is a way for homeowners to use the existing equity in the home they own and convert it to cash. In some respects, that works like a home-equity loan, because it gives you available liquidity for important financial priorities, such as paying bills, covering medical expenses, or making any other purchases. After all, the worth of your home is your money to begin with, and when you need it, you should be able to get to it.
“Access to financial resources is a key question that comes up more often than anything else from people seeking advice in their later years,” said attorney-CPA Joseph E. Cordell. “Reverse mortgages could potentially be one of the most advantageous ways for many people to meet those needs.”
In fact, the official name of a reverse mortgage is a Home Equity Conversion Mortgage (HECM). Despite their similar financial benefits, there are differences in the equity-conversion processes and many positive and negative aspects to consider.
How reverse mortgages work
As noted above, a reverse mortgage enables you to get cash from the equity in the home you own. It does not mean you have to sign over the title to your property or deny your heirs the asset. In a way, the transaction simply works like taking an advance payment from your own future, based on the logical assumption that your home will be sold (or at least transferred) to someone else some day.
In other words, the bank lets you obtain liquidity sooner by essentially dipping into what you already own as brick-and-mortar equity – with the understanding that you will pay off the mortgage and its fees when you eventually sell your home or no longer live in it.
That process can be a convenient solution to a number of financial challenges, but there are limitations. First, you have to be age 62 or older to qualify, and the home must be your primary residence. You also must have adequate equity in the property (typically 50 to 60 percent of the home’s assessed value).
Unlike a home-equity loan, there are no monthly payments required. However, be aware that the balance of a reverse mortgage continues to compound and accrue interest, which may cause trouble later. When that happens, the reverse mortgage can reduce your equity in your home and can result in fewer assets being available for you and your heirs when you sell.
Addressing the perceptions
Part of the confusion about reverse mortgages comes from rare incidents which pop up from time to time and then gain traction on the media grapevine. Of course, nobody likes hearing about an 85-year-old widow who lost her house because of a reverse mortgage, but there is usually much more to the story than that. Nonetheless, some providers of reverse mortgages may not always be totally honorable.
In a 2014 report to Congress, the Consumer Financial Protection Bureau stated that reverse mortgages are complex products and difficult for consumers to understand. They also noted that people need to be aware of misleading advertising and risk of fraud and other scams” within the industry.
It can be argued that virtually every business includes salespeople with questionable ethics or tactics, but for whatever reason, reverse mortgages often have a bad reputation. However, in a survey conducted by AARP in 2006, 93 percent of respondents said they were satisfied with their reverse mortgages.
Understandably, a reverse mortgage is not right for everybody. Factors, such as the borrower’s age, current debt, plans for the home, and ability to repay the mortgage must all be considered. Also, reverse mortgages tend to have high closing costs, which can be a deterrent in some people’s decisions.
A reverse mortgage is complicated and not something to rush into. Before committing to one, you should speak with an experienced professional who can help you gain a clearer understanding of the reverse mortgage process. In Canada, borrowers are required to obtain independent legal advice before being approved for a reverse mortgage.
The elder law attorneys at TuckerAllen can offer insightful guidance to help you weigh the alternatives and make the best decision for you and your family.